The Foundry Files

Welcome to the third installment of our series- Why Startups Don’t Bid on Government Contracts. In our first two posts we analyzed the problem of awareness and lack of visibility, and then we dove into the negative perceptions the government market has. This week we discuss the cost of going after work, and not surprisingly, they extend far wider than simple dollar signs.

Problem- A Lengthy Acquisition Cycle

As we mentioned last week the most frequently cited reason for not going after government work is the time that is required, and agencies have worked hard to become faster over the years. But it might be worth asking how fast the government needs to be?

We were in a meeting recently where a senior government leader proudly announced that they had cut their major IT system acquisition time from four years to two years. And that’s great, but it might not make a difference. This isn’t just cynicism, but a real question, do non-traditionals register a difference between a four year and a two-year sales cycle. And the answer is probably no...

To understand why a two-year sales cycle is just as bad as a four year one we need to talk about the core drivers of non-traditional behavior:

Product market fit: The most important thing to a new non-traditional is finding Product Market Fit, which is just a fancy way of asking how close the company is to having something that customers will pay for.

Revenue/Raising capital: The second most important thing to most non-traditionals is the amount of money in the bank, which is closely tied to the amount of money they’ve been able to raise. The amount of money in the bank, along with their burn rate (the speed at which they spend money) determines their “runway” (the amount of time they have till they go bankrupt, have to raise more money, or generate enough revenue to cover costs).

Keeping their company/valuation: Embedded in the capital raising process is the perceived value of the company (its valuation). This is important because it, and the amount of money the founders want, determines how much of their baby the founders have to give away when they raise capital. For example, if the founding team needs $1m and the investors value the company at $5m the founders will have to give away 20% of their company, while if the company is valued at $10m they will only have to give away 10% of their company. Clearly the higher the valuation the better for our founders (have you seen those entrepreneurs struggle to come to terms with a deal on Shark Tank).

Each investor estimates the value of a company differently, but for most investors recurring revenue is king, not sales that are in process, or contracts that are just waiting for one contracting officer’s signature, but actual steady dollars in the door.

How a founder sees a two year sales cycle: Let’s take the best case scenario, a non-traditional has a bit of revenue and just gave a heart-wrenching amount of their equity to an investor in exchange for 12 months of operating capital which along with their revenue gives them 18 months of runway, at which point they will be back to giving away equity in exchange for capital. And at this moment the founders meet a government PM that desperately needs their exact capability. Well, if it is going to take 24 months for the revenue to arrive then every minute that founder spends on the government customers at the expense of customers that could deliver revenue inside the funding cycle is literally a decision to give away more of their baby.

"The perception from historical experience is that government contracting / bidding is both slow and designed to favor a pre-selected winner / looking for a specific answer. A company that has been in business for 6 months and has 12 months of funding remaining is not going to be looking to spend 24 months establishing a relationship with the government. This means that responding to an RFP is a low probability event. Typically viewed as not the most useful way to spend time. Need a way to convince startups that they have a realistic chance of winning a contract within a relatively short period of time."- Founder

So how fast does the government need to be: Most non-traditionals, even relatively mature ones, had 18 months or less runway at the end of their last funding round. Given that an average non-traditional will be halfway through their runway, the government needs to be able to deliver cash to a non-traditional in less than 9 months to even be considered as a viable customer.

If we compare the average sales times reported by companies going after government and non-government sales we see a stark advantage in going after non-government customers. Companies that go after non-government work were twice as likely to have average sales times less than one month. While companies that go after government sales were twice as likely to have sales cycles that take more than a year.

Problem- Staffing SME’s Is Expensive

The second most frequently cited reason for not going after government work is the complexity and effort required. Which in financial terms can be thought of as the amount that a company would spend hiring the subject matter experts that are needed to navigate the process. Non-traditionals need to be very lightly staffed to keep their burn rates low, and any new hire is going to shorten the time they have till their next funding cycle, which as we’ve discussed is a major emotional event.

"Silicon Valley was business friendly first and smart people started companies because there was opportunity. Smart people are everywhere. If government wants smart people to help solve our biggest problems in the US, government could be business friendly first and smart people will start companies in response to opportunities."- Founder

Solution: Be Nimble, Be Quick, Be Involved

Here are a few suggestions on how the government could address this issue in several ways. One is to align government acquisitions process with the commercial market’s so that a company could use their existing sales infrastructure to pursue government contracts.

A second would be to make greater use of challenges, OTA’s, and simplified acquisitions which tend to have simpler requirements.

A third approach would be to allow mid-career military officers, NCOs, and government officers who have contracting or relevant technical backgrounds to work for a non-traditional for a year to help them with their products development and to help them build their government sales infrastructure. Conversely, the participants would return to government after the year with valuable skills and mindsets.

Solution: Increase the “salvage” value of a losing proposal

A non-traditional is not just building a product, they are also building a team with institutional knowledge and capabilities. So, while pursuing a customer and winning is best if they are going to go after similar customers, or even that customer again, then even a losing effort creates value in the institutional knowledge and materials that the team can recycle into the next effort.

Unfortunately, our respondents reported that few capabilities and materials created for government acquisitions could be recycled into future commercial ones.

If the federal government aligned their RFP process with the commercial sector’s then capabilities and materials developed for federal work would have a higher salvage value, decreasing the “cost” of federal sales and likely increasing the interest in government.

Thanks for reading this week’s post, we hope you join us next week for The Chances Of Winning, if you would like to read a full copy of our report with the Boston Consulting Group, you may find it on our website.

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